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Dubai: Religious scholars are imposing tougher rules on the sale of Islamic bonds to investors after stating that most of the securities may not fully conform to the teachings of the Muslim faith.
Investors bought $30 billion of so-called sukuk in the past year that avoid breaching Sharia prohibitions on the payment or receipt of interest by using property or other assets to provide an income.
New guidelines require investors to become the legal owners of those assets rather than nominal holders, the Bahrain-based Accounting and Auditing Organisation for Islamic Fin-ancial Institutions said on its website.
The rules from AAOIFI's board of 18 religious advisers led by Chairman Shaikh Mohammad Taqi Usmani will make it harder for companies to issue Islamic debt at a time when borrowing is already shrinking because of the global credit crisis. Sales of sukuk dropped to $856 million so far this year from $4.7 billion in the first quarter of 2007.
Paradigm shift
"This is a paradigm shift and will make life difficult for chief financial officers used to the existing structures," Moody's Investors Service analyst Khalid Howladar said yesterday.
Sharia restricts investors to transactions based on the exchange of assets rather than money alone, so interest payments are banned.
Working with Islamic advisers, banks including Citigroup and HSBC Holdings have built the market for sukuk to $60 billion from almost nothing in a decade, based on Bloomberg and Standard & Poor's data.
Borrowers and their bankers until now created a fixed income for investors by promising to buy back the assets underlying sukuk at their face value on maturity, irrespective of whether the assets made or lost money, Moody's Howladar said.
These types of agreements are banned under the tougher rules because Sharia demands buyers and sellers share profits or losses from their transactions.
Blemishes
"Blemishes" have crept in that the industry must now "rid" itself of, AAOIFI's board of scholars said last month. As much as 85 per cent of sukuk sold to date may not comply with all the precepts of Sharia, the board said.
The new rules force issuers of sukuk to legally transfer the ownership of assets to bondholders. The assets must be tangible rather than a cash flow.
"What the scholars are trying to do is make sukuk asset-backed rather than just asset-based," said Arul Kandasamy, the Dubai-based head of Islamic finance for Barclays Capital.
What the scholars are trying to do is make sukuk asset-backed rather than just asset-based."
Arul Kandaswamy
Head of Islamic financefor Barclays Capital
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